The integration of American, UTi, has resulted in significant margin increases at DSV, and we contribute the unique corporate culture of this freight forwarder. Time after time, textbooks state that acquisitions destroy value. Time after time, DSV has proven differently.
The story of DSV starts with eleven truckers joining forces. This took place in 1976, when Leif Tullberg lead the integration desiring collaboration and economies of scale. The rest is history. While DSV started with a focus on road-transportation, today the majority of earnings are in the attractive markets for air and sea freight. In the beginning of 2016, air and sea gained momentum with the acquisition of UTi. The speed and swiftness in the integration of the previously loss-making UTi has been impressive.
DSV has a flexible business model as a freight forwarder – the company does not own the container vessel, planes or trucks. Instead, they contract this from subcontractors and then resell it to customers as demand requires. In this way, DSV is a customer of another very well-known Danish company, A.P Møller-Mærsk. Unlike Mærsk, whose business requires significant ongoing investments in new ships or maintenance of current ones, DSV has no need for such investments and this largely explains DSV’s ability to achieve a return on invested capital of 18 percent. Adjusted for previously acquired goodwill, the returns on invested capital is 75 percent.
The business model of freight forwarders is thus significantly less dependent on macroeconomic cycles and the volatile freight prices than is the case for most subcontractors. As described above, DSV books cargo space from the shipping companies and this space is then re-sold to DSV’s customers with a margin. The advantage for DSV’s individual customers is the lesser need to either check or compare a long list of service providers – they can simply deal with a single company: DSV. Logistics will also normally not be part of smaller companies’ core competencies. If you manufacture clothes and merely ship five containers a month, it would be appealing to rely on the expertise of DSV that shipped more than 343,000 container units in 2017.
One of the world’s best at integrating acquisitions
With a presence in more than 80 countries, DSV is one of the world’s five largest freight forwarders but it operates in a fragmented industry; DSV’s market share is two percent. The business is split between Air & Sea and Road (the original trucks) in addition to Solutions, where DSV assumes part of the physical storage and management of the customer’s inventory in order to ensure that the right items are at the right places at the right time.
Acquisitions have been a major part of DSV’s history, and UTi was thus the latest among many. UTi was by far the largest acquisition in DSV’s history. Acquiring companies and improving their operations is a discipline that not many master to this extent. Integrating acquisitions is a large demand on the resources of senior management, and therefore it is critical for senior management to consider how many resources should be diverted to these and how much focus should be on increasing and improving the existing business.
It is essential to take care of existing customers and not forget them while the integration of acquisitions is undertaken. If existing customers are neglected, it can make them change their supplier and this would have a negative impact on the earning potential.
The senior management has made it known that they will not make quite as many smaller acquisitions in the future, but they are expecting the ones they do make to be larger. However, we trust that the culture at DSV is solely focused on optimising the long-term value creation – and size is thus not an objective in itself. From 2003 to 2017, the earnings per share increased by more than 17 percent per year. Despite this being a combination of acquired and organic growth, it is an impressive growth rate.
The successful integration of UTi has been spearheaded by Carsten Trolle, who is head of air and sea in DSV. He has been in that role since 2015 but has been with DSV since 1984. To the best of our knowledge, Carsten Trolle contributes with high energy levels, strong customer orientation and business expertise, which he has also previously demonstrated as part of the senior management of DSV’s subsidiary in the United States, which has the group’s highest profitability.
Today, air and sea is the largest profit source in DSV. DSV updated its financial targets in relation to the annual report for 2017, and the ambition for the conversion ratio (operating profit as a percent of net revenue) was increased to 42.5 percent. Previously this was 35 percent, which DSV achieved with a conversion ratio of more than 37 percent. The increased ambition will be an industry leading profitability, yet we find it probable, in large part due to the strong management team.
Strong leadership both on the Board of Directors and the Executive Board
We find it positive that the previous CEO, Kurt Larsen, the current chairman of the board and the previous head of air and sea, Jørgen Møller, continue to be active on the board of directors. This brings stability and a deep commercial understanding and gives the board of directors the opportunity to act as a professional partner to and challenge the senior management.
On a day-to-day basis, DSV is led by CEO Jens Bjørn Andersen and CFO Jens Lund. Jens Bjørn Andersen has been with DSV since 1988, and he has been CEO since 2008. He has previously demonstrated the ability to increase profitability in the company’s business in Norway and the United Kingdom, and in his time as CEO, he has continued to demonstrate a great strategic understanding and has kept the focus on the long-term opportunities for value creation.
The CFO, Jens Lund, has been with the company since 2002, and year after year, he demonstrates a tireless focus on eliminating unnecessary costs, optimising the working capital and optimising the use of new technologies. In its management of the working capital – receivables, inventories and payables – DSV showed an impressive level of control in 2017, and this was a strong contributing factor to an impressive growth in the free cash flows, now amounting to 4.3 billion Danish kroner. The strong free cash flows allowed the company to resume its share buyback programme in the fall of 2017, as the company managed to meet its debt target by having a net debt under one and a half times the annual earnings before interest, tax, depreciation and amortisation.
In 2015, DSV launched Cargolink Way Forward, with the purpose of increasing the efficiency in the Road division. The project was to create an overview of which shipping projects could be combined with others, and thus increase profitability.
The combination of booked shipping can lead to the same order from one trucking company serving several customers. Unfortunately, this project had to be down-prioritised due to UTi, but we firmly believe that its relaunch will help Road achieve the long-term ambitions of a conversion ratio of 25 percent.
Road is managed by Søren Schmidt, who has been at its helm and demonstrated committed leadership since 2008. As the long-term financial figures indicate, Road has a structurally lower conversion ratio than air and sea, and the division has been under pressure due to a lack of truckers, which has increased the prices charged by DSV’s subcontractors. A normalisation of the market should bring the earnings per shipment back to a higher level and thus result in higher profitability levels.
The third and final division is as mentioned, Solutions. Solutions has been strengthened through the acquisition of UTi due to the acquired customer relationships, in addition to a business in South Africa, where UTi was originally founded. Solutions enters contracts with customers, and then the division is responsible for the shipping of goods from production facilities to central warehouses and then subsequently on to the stores as needed. A growth in Solutions will therefore have a positive effect on the rest of the business activities at DSV, and the value of the division cannot solely be measured by the division’s reported figures. Solutions is managed by Brian Ejsing, and he has headed the division since 2012. Brian Ejsing has been with DSV since 1986 and has previously been successful in the company’s German subsidiary.
Significantly increased operating profit
As mentioned, the integration of UTi went beyond expectations, and throughout 2017, this led to three increases in the outlook for 2017. From DKK 3.5 billion in operating profits for 2016, and with an expected 4.35 billion entering the year, the year’s operating profits ended up being 4.9 billion Danish kroner. Essentially, a growth rate of 40 percent. Combined with the strict management of the working capital, DSV thus managed to be ahead of schedule in reaching a debt level that would allow for share buybacks. Almost DKK 1.6 billion worth of share buybacks were made during Q4, and the plan is for 700 million more to follow in Q1 of 2018. This is the equivalent of almost three percent of the market capitalizations at the beginning of the autumn of 2017, and on top of this, the company pays a dividend yield of half a percent. We expect that senior management will remain disciplined in their distribution of the company’s capital to shareholders when there are no prospects to use these funds to expand the business, whether this be through the opening of new offices or the acquisition of new companies.
DSV has clear financial targets for both profit margins and the returns on the invested capital. We find this entirely in line with how we want our companies to focus. Due to the business model that does not require capital expenditures due to not owning the transportation assets, capital expenditures only amount to approximately 0.5 percent of the turnover, and the value-focused culture and disciplined senior management keeps the working capital at a level below two percent of the net revenue. This contributes to cash conversion around 100 percent, and the free cash flow is thus generally in line with earnings. Today, the expected free cash flows amount to almost 4.5 percent of the market value, and we see this as an attractive valuation.
While large fluctuations in rates create uncertainty and even financial issues for the owners of, for example, planes and container vessels, these uncertainties in freight rates create earnings opportunities for freight forwarders, since customers may find it harder to comprehend the current prices when they rise or fall from one day to the next. The ability for freight forwarders to continue the value creation through periods where vessel owners fight to survive is thus noteworthy.
We have great confidence in the ability of DSV to continue to create value – whether it be organically or through acquisitions. The senior management’s constant strive for optimising costs, the opportunities for growing the market share through a persistent chase for new customers at current offices and the creation of new offices all serve to make us confident that the accelerating value creation throughout 2017 will result in even more value for shareholders as well.